EURCHF TP

France again

These moves are no joke. If you recall in 2011, we were legitimately worried about Greece, Portugal, and Spain leaving the euro and there were rating agency downgrades every day, and the world felt like it was ending. At that time, France was not the center of the storm, but spreads there briefly got to 190bps. Now, they are above 150bps.

Here’s the zoom out back to 2000.

The French politics trade that many expected would escalate in the winter as April 2027 elections neared… Is here now. It’s not completely obvious what might fix things here as any budget promises made by the French government now are not super credible with a change of power coming soon. They can do the old “we promise to get deficits below 3% in two years!” thing but nobody is going to give those promises any weight. And, as discussed yesterday (see am/FX: TPI)… The ECB is somewhat constrained from intervening still.

So, if French spreads are driving EURUSD, EURCHF, and some part of global risk appetite, what might turn the boat? Here are a few catalysts that I am looking at that could change the direction of the French bond market:

1. Good political news might help at the margin. If the budget survives parliament, that grants at least a temporary reprieve. Something like: “Opposition signals it will not bring down government over revised budget.” As stated earlier though, the election looms regardless of any current conciliation.
2. Blowoff top in spreads. This is often the way high-vol carry trade wipeouts end. Vol gets high enough and panic gets strong enough that the last exiter exits and there is nobody left to sell. Vol slowly starts to come in, and the panic selling becomes FOMO buying. The short gamma hedgers find themselves overhedged and they turn from sellers to buyers, too. This is one where you just have to know it when you see it.
3. Verbal intervention as ECB rhetoric shifts from “France’s problem” toward “transmission problem.” Yesterday Nagel pushed back on the idea that the ECB targets spreads, and Reuters (and I) reported that France currently looks like a poor TPI candidate because widening is linked to fiscal/political fundamentals and has been orderly. A Lagarde/Schnabel/Villeroy comment explicitly emphasizing fragmentation, disorderly conditions or monetary-policy transmission could stop the momentum as it opens the door for TPI sooner rather than later.
4. Broader contagion ups the odds of a TPI response. If Italy and Spain start widening aggressively, it might be time to start dipping a toe or two in the water.
5. Big drop in energy prices. Part of the heat on Europe right now relates to fears of an energy crisis this winter. The drop in OATs is not completely independent of the rally in diesel.

For now, the path of least resistance is wider spreads, lower euro.

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The EURCHF trade

The short EURCHF trade has worked out incredibly well as we got a six SD move in EURCHF yesterday, less than 24 hours after I put on the 1-month option. The vol has gone from 4.5% to 5.5%, spot collapsed, and a one-month option that cost 37bps is now worth 180bps—only two days later. To be fully transparent, I took off half at 0.9345 yesterday ahead of a litany of supports and now I am trying to figure out what to do with the other half.

My intuition says that covering the rest is probably the best idea as it’s a massive profit in a short period, there is certainly a fair bit of weekend headline risk that could be short-term bullish for France, and I can always get involved again on a rally or move on to the next trade. But I wanted to run the event study first.

The chart here shows all 2-day moves in EURCHF since inception. I cut the y-axis off at 5% each way to clip the 2015 moves. You can see the Eurozone Crisis period, then the SNB floor, then the point when the floor went gonzo. Interesting chart!

Here is how EURCHF traded after the 20 largest drops. The bias is bullish. This confirms my intuition that given there is a ludicrous amount of money on the table here, I would be foolish not to take it. After the 20 largest drops, EURCHF was higher 65% of the time over 5, 10 and 20 days, by about +1.0% to +1.5% on average, versus roughly flat for all days. Bounce risk is real.

I will square the EURCHF short position at some point between now and 11 a.m. Am I bullish EURCHF? No. Is there a fair bit of weekend headline risk that could be bullish? Yes. Better to capture the gains and move on.

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Calendar

The calendar is not very spicy next week. Barely anything of interest in there and so we will stare at French spreads and see what happens.

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Final Thoughts

1. The Spectra Trader Handbook and Almanac is out. The best one so far! I will write more about it next week, but if you’d like to purchase it, here is the link!
2. A very nice interview here with one of the best American authors. A 10-minute read. It is an interview with George Saunders on AI and writing with AI. His frankness and absolute belief in humanity is commendable. I sympathize with much of what he says, especially:

Who are we ceding our authority to, exactly, when we let AI write for us? And why? Why surrender our agency (that amazing ability we have to reach across time and space, with our strange, idiosyncratic phenomenon, and land within the sensibility of another human being) to something that, by its very design, pushes the individual sensibility aside? And in the name of . . . what, exactly? Ease, I guess? Efficiency?

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It seems to me that we’re doing this slow drift into AI-aided writing without the sort of serious public discourse that admits to the possibility that, just because we can do something, that doesn’t mean we should; that there are activities that distract and lessen us and activities that bring us to live more fully in the moment we’re in. We get to decide what to do with this precious human life, and we should make that decision with the utmost seriousness. And “declining” or “demurring” is a valid, sometimes wise, option.

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Using AI erodes our mental capabilities. Why do we want that? One feels that the answer has to do with consumerist momentum. (“But it’s new! And easier! It’s inevitable!”) AI is becoming, it seems, “too big to fail.” But it’s still (in my view) a big nothing in terms of artistic writing, since art is by people, for people, and reflects and is dependent upon the experience of having moved through (and heard and smelled and seen and had feelings about) the actual world. AI writing can’t do that. It just can’t. It can look like it’s doing that but, by its nature, it can’t be artistic writing.

Now, I’m not saying it can’t be impressive and sound like artistic writing. And I’m sure that a mind, put in front of a piece of AI writing, will do something—the reading will cause some sort of reaction in the brain. (Of course it will; a mind will react even when reading a phone book or a random sequence of words.) But that’s no big thing, the mind flickering in response to a text. It’s the quality of the flickering that matters.

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AI can’t be originally wise—it can only recontextualize and reorder other peoples’ wisdom. Maybe some people find it fun to be exposed to this—to me, it seems like a distraction, especially given that life is short and I still find myself in an urgent struggle to understand my own mind and express something beautiful out of that mind and all the things it has been through, something shaped by me, me personally, that will go out and move you (you, personally).

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My view on AI in writing is not quite so absolute as Saunders’ because I think in research-driven non-fiction there is a place for some AI behind the scenes. But I agree that artistic writing and fiction are human-to-human enterprises and if you introduce an algorithmic middleman, it amputates part of the soul of the exchange.

3. If you’ve read Trade Outside the Box – please click here to leave a quick review. Thanks!

Have a colorful weekend.

You bring your own spray paint to Cadillac Ranch and paint up the cars as you see fit. I brought black spray paint—can you tell which part I painted on this car?

good luck ⇅ be nimble